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welcome to the third webinar of whisper work on initiative on financial policy and regulation
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today we are happy to have Josh Macy from the University of Chicago he's going to talk about Market power and
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Financial Risk in U.S payment systems um whisper is a new initiative that is at the intersection of Law and finance
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and part of our activities is to organize webinars based on white papers on issues at the frontier of interest of
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financial policy and we're very happy to have Josh I'll turn it over to Peter my
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co-director to introduce Josh thanks so much uh what did the light have with us Professor Josh Macy uh Josh
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has a an unusual set of uh uh talents and expertise he's really the Liam Neeson of uh the Academy I spent
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his life developing an unusual set of skills which has come into use on on questions at the intersection of
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infrastructure uh Finance distress with a particular focus in energy markets and
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in our case today the payment system uh his his expertise unusual though it is becomes incredibly relevant when we're
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talking about questions of stability and structure and so we are today this stability we're talking about is
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financial stability the structures we're talking about are payment systems or uh
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in the plural as Josh will explain and the questions he seeks to resolve are what Josh has described in other context
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is a kind of regulatory dilemma how to optimize within a set of constraints where the constraints are not only
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constrained by resources but are constrained bilaterally through a trade-off Josh I'm going to turn it over
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to you to give a presentation to elucidate some of the the structural questions uh and and trade-offs between
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stability and concentration in the payment system or in the payment systems and then we'll take questions from the
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audience as many as as we can get to uh that etai and I and ETA and I will pose our own
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questions and pull in those questions from the audience and have what we hope will be a lively conversation so with
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that Josh take it away uh thanks Peter I'm really happy to be here uh and and really happy people want
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to want to hear a little bit about uh my thoughts on financial infrastructure and
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payments so um this paper this this what I'm working on reflects some ideas I've been having
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uh many with uh some in a project I'm working on with Dan re and Jeff Yang and
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some in a project I'm hopefully working on with you um about uh uh uh how sort of financial infrastructure and
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especially so so there's a move in the legal Academy to think about utilities as a coherent
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um entity that Financial utilities share some uh basic economic features their networks their platforms their economies
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of scale and uh one of the themes of my work is that um different utilities look
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different in different contexts either because the institutional regime that underlies a particular utility creates
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unique economic challenges and this is what I'm thinking about here is an example of that so uh
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I'm thinking about many of the trade-offs between economies of scale that are arguable and network effects
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that are arguably needed to provide a quality payment system competition that is arguably needed to promote access and
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spur Co SP for Innovation and uh Financial stability and the way these things interact with each other so in my
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opinion you want three different things in a payment system the first one is stability uh payment systems are vital
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infrastructure they're like roads or Bridges or the internet or transmission
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lines or whatever infrastructure you think that's necessary to operate a modern economy
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um in the payments context there are two types of stability that seem to me to be
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important one is the first one is technological you actually want the system to work uh the participants that
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maintain and operate a payment system have to provide a safe secure and reliable way of transferring money or
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other Financial assets the other one still within the the stability part is uh Financial stability you want a
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payment system to be resilient such that it remains both liquid and solvent in the face of idiosyncratic and systemic
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threats to its micro-prudential safety and soundness so the second big goal in that we have in payment systems is
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investment and this too I think of as having uh two meanings you want investment in day-to-day processes that
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are that that allow you to maintain whatever infrastructure is needed to maintain a reliable and convenient
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payment system and then you want Innovation uh you want a payment system you want Market participants or
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financial intermediaries to invest in new technologies and services to improve the quality of services that they
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provide and then the third and this is the one I've had the hardest time in my
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own mind articulating is sort of related to access us but it's really related to
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competition and Market power issues and you want a payment system uh so and then
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here too there are a couple different meanings but you want different Financial intermediaries to be able to
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connect to the payment system you can think of this as a horizontal Market power issue that if you if a certain
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subset of financial institutions controls access to the famous system they may be able to charge different
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types of horizontal taxes to those that are excluded um and and this can come in the form of
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sort of obvious um price increase sort of uh uh just transaction fees such as we see in
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foreign exchange markets or it may arguably occur in the form of taking advantage of the float if that occurs in
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the in in in uh in delays um and the second part really of access is I think the ordinary way we think of
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it which is that you want the intermediaries that are already connected to the system to provide
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access to customers so that and so this is what sort of when we think about ideas of financial inclusion I think the
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ideas you want um the payment system to be widely accessible to people so if we have you
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know concerns that underbanked are don't have access to the payment system are
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related to this and I'm increasingly concerned I guess that it is difficult to achieve all of these goals at the
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same time uh at least with respect to purely private or predominantly private systems and that this gives rise to hard
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and potentially intractable trade-offs for policy makers so if you consider the trade-off between Financial stability
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and investment to ensure Financial stability you need a variety of familiar regulatory interventions to protect
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Financial intermediaries against microprudential risks this typically involves establishing a a legally
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defined regulatory perimeter that limits the which entities are given access and then subjecting those
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intermediaries to burdensome often well Justified but still burdensome Prudential regulation
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um you know to further promote micro-prudential safety and soundness financial intermediaries are provided
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with access to Central Bank emergency lending facilities and other forms of State support that arguably give the
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entities within the closed system an advantage compared to potential competitors
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um and then related challenges here are that uh Payment Systems must manage uh other risks such as anti-money
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laundering compliance and so the the combination of closed access and these burdensome even if well-justified
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regulations um as well as state support uh can create potentially insurmountable
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barriers to new entry um where these barriers insulate incumbent Financial intermediaries from
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competition the effect can be to sort of um weaken incentives to make technological
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and other Investments that are needed to build maintain and upgrade the payments
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infrastructure to which uh those intermediaries enjoy exclusive access uh when you combine that with significant
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economies of scale and large Network effects that incumbent uh enjoy these barriers can further undercut incentives
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of new interests to invest in the development and new and and potentially more efficient systems
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so the second trade-off is between network access and stability um because of the barriers to entry I I
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just mentioned a real competitor will probably come from outside of the existing regulatory perimeter
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um we've seen this already uh you know and this could be because customers leave funds in our retail provider such
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as venmo or PayPal that can sort of come in and challenge an incumbent or it could be because people flock to a
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certain stable coin or it could be because a large company perhaps a social media company that already has a larger
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network is able to enter the payment space um but without a well-defined regulatory
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perimeter and strong Prudential regulation I I sort of worry that new entrants um will be free to enter and compete in
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the marketplace so these entrants may be at a competitive disadvantage and they operate without the financial safeguards
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we think of as important for the the system um in the short run this can have a couple different effects that might be
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hard to predict it could spur investment but over the long term I think you can still expect pronounced economies of
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scale and network effects to lead to a natural monopoly um and so even if if we do see
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meaningful competition I think uh at least I would expect a new equilibrium in which the market is dominated by a
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small number of of large networks um and then the if if this these new networks uh don't have strong Prudential
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regulation any correlated failures could potentially uh themselves become a threat to financial stability so to the
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extent we're comfortable allowing new entry um either where we have to extend the
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bank regulatory perimeter or or we have to um uh accepted that uh Finance systemic risks that we're not
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currently sort of comfortable with and obviously this is quite evident in the emerging crypto system and so the third
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and final trade-off I think is between network access and investment um in the presence of a well-defined
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regulatory perimeter and a strong credential regulation uh policy makers can subsidize investment in payment
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infrastructure but if you successfully subsidize in this way um policy makers have to make a choice
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about what types of access and investment they want to promote um if policy makers want to promote
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private investment um that suggests they should tightly control access giving rise to these
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Market power concerns um uh and so if you to the extent you close access uh you are a source of a of a subsidy that
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further increases the advantages to incumbents and a arguably a mechanism by which policy makers uh are able to
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Target and enforce uh Network improvements um if policy makers promote Open Access
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I think this requires direct public investment and payment infrastructure um and so here uh Open Access can lead
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to Market fragmentation and you might be concerned about potential under investment so to sort of just quickly
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say a few closing thoughts I think um it's quite common to complain about uh
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you know how slow American and uh Payment Systems around the world are how problems to access our problematic
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um in the cross-border context payments are both slow and they're they're the
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transaction fees are large and I think that you it's possible to think of these
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different problems and that that we always talk about in payment systems as consistent with the underlying issues I
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just described so we frequently see little innovation in payment systems that seems consistent with a market in
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which dominant platforms are confident that they already enjoy a big head start they have a big Network they're barriers
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to creating a new network people may be reluctant to use a payment system that does not receive financial support from
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Regulators so why would the platform investor innovate when it already controls the entire market and it's
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confident that new entrants are at a severe disadvantage we also have seen that financial institutions charge High
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overdrafts fees and otherwise make large profits off of the underbanked that too
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seems consistent with um some Market power issues and the same thing can is arguably occurring in the
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cross-border context so in a in a very little literal sense um I hate it when people throw around
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the word trilemma uh inaccurately I'm like 80 sure this is accurate uh but I
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think this gives rise to some form of a trilemma because if you are a regulator and you're not an either you know fed
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now and and different uh in a public options are delayed either because of the lack of a will or
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political pushback or incompetence A Better Private system involves either Regulators choosing to one in trench
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Bank Market power if they want the existing system to work they exacerbate these differences uh two accept a new
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source of systemic risk if they don't if they are are comfortable with competition they have to
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the possibility that Facebook develops a payment system means uh possibly expanding the bank regulatory
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perimeter in case something goes wrong there and third and finally um uh countenancing the fact that they're that
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that if you don't want to expand the bank regulatory perimeter upstarts could
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be a source of of of of risk we should be concerned about very good thanks uh Josh so generative
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and offer so many questions one of the things that we try to do in whisper in in intervening in policy debates is at
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least sketch a path for what a policy response would be and I think in your paper you've just told us uh
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everything's on fire everything is terrible there's no real clear way to uh
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get us through tell me why I'm wrong about that if it were a true uh trilemma
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or even to resist as you appropriately do that framing we might be looking at an optimization function that has some
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sort of equilibrium that might tell us that we are at that equilibrium and let me to bring it to to kind of uh where
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um the rubber hits the road let me describe what I see to be that equilibrium and you tell me whether or
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not you agree with it and if you don't what the policy response should be to
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notice toward a different place on that optimized Frontier the way that I see it
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is that payments uh domestically are dominated by some very large rails and resist the terms you know oligopoly
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because they look pretty different so one is ACH overwhelmingly used it has a public-private or origin story but is
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now uh largely private fed wire a public rail overwhelmingly dominates on uh on dollar values and then of course we have
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the card rails uh Visa Mastercard and an American Express private um and and these are these kinds of
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incumbents are real issues that have been raised about all of them about both Financial stability and concentration
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that's kind of where we are today but at the same time we have things and I know
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that you and Dan already have written about this we have things like plaid coming in and and saying we want to have
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a using open Banking and a lot of different um uh uh approaches to uh to uh generating new opportunities for fintech
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entrance so far we're not seeing a lot of instability there we have huge efforts in the crypto space to say we're
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going to try something brand new outside of a banking or payments uh regulatory perimeter uh and so the future is uh is
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not yet here we're inventing it day by day and so we have this equilibrium where we're dominated by some very large
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incumbents both public and private and then we also have a pretty big fervor at the periphery saying let's innovate here
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and we're not seeing the instability that you're talking about yet so so it
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seems to me one case could be made is that we actually kind of fixed most of the problems that you're describing
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um it's a pretty vibrant place in turn from as far as Innovation is concerned
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and that um the incumbents are going to continue because of pressure from the periphery to either acquire their
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competitors beat them uh or lose and become dinosaurs to so many previous incumbents have done so yeah what is
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wrong about what I just described so I don't think that much is wrong but let
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me ask a quick follow-up question and I'll provide hopefully an answer when you say
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um is the Innovation you're talking about is I understand it it's happening
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sort of half of it can be understood at the retail level which may be pushing and half of it is occurring
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um as the as as banks that as firms that are are powerful at the wholesale level
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um have said we're going to to to improve the inner bank system and and have at least made some efforts to do
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that sorry is are those the two domains you're primarily yeah I would say I would say where the Innovation seemed to
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be coming right now are much less wholesale or much less retail uh venmo possibly accepted and much more retail
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Plumbing of the system business to business interbank but otherwise too so thinking about you know we pay which
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isn't really interbank as much as it is um built on on a commercial infrastructure rather than a banking one
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yeah so so put retail to the side I think that's the real Innovations are happening behind in places where where
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folks on the street simply won't won't see so I I hope I didn't say uh or or I give the
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impression that I think everything is Doom and Gloom and that it's impossible
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to improve on any of these metrics but um so so in my mind I think that the core takeaway for me of of or the
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the benefit of this framework is understanding in my mind that the importance of public pressure in some
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form um because I think that um and I want to push back a little bit on whether the reforms we're seeing are
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quite as as uh uh uh great as as you implied but at a high level I think that the sort of my primary takeaway of
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thinking about these various dilemmas is that some amount of Federal Reserve in the U.S and Central Bank involvement is
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very very important and this is I I see how was a question which I think we can uh I'll try to get to after this one um
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that's really interesting um but there's been Even If the Fed hasn't
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moved towards uh uh you know a central bank digital currency or fed now as quickly as some people would like I
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think that the wholesale system is facing pressure and the uh uh zealousness with which they've
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pushed against that could imply that and this is something you've written about
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the threat of competition from the government is itself I think important in this context
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um I am not quite as optimistic that we'll get rid of the market power issues
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in the sort of new whole Bank dot uh wholesale system um but but I I suppose we'll just sort
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of have to have to wait um uh I know um I I suspect people on this call have thought about that as much as I have but
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um uh I don't I mean it seems to me that what you are saying is that they're
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different sort of one-off policy interventions that have facilitated investment and Innovation uh
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despite the fact that these economic issues exist and to the extent that's happening I agree
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um to the extent uh uh uh um and then I don't know in the cross-border context if if
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if anything that you said uh uh uh just because I haven't um I still think we're seeing very large
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you know arguably this this trilemma is most pertinent in the cross-border context where there's the least ability
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of central banks to to Spur uh to to oversee uh the kind of thing we're talking about but um I guess that's a
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longer way than I intended of saying I don't know that we're disagreeing but I
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didn't take let me uh follow up on that first of all let me remind people in the audience that you
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can submit questions in Q a we already have a couple of questions and we'll get
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to them in in a few minutes um before that let me just ask a follow-up question to what Peter was
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discussing so so it's very interesting how you lay out this trilemma and we are
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used to thinking about dry lemmas in other areas and as you mentioned it's always tempting to go back to that kind
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of framework uh and I think you describe the trade-off and some of them are familiar for example thinking about the
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trade-off between stability and competition uh well would you like the payment system to end up what is kind of
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the optimal point so if you think about a triangle what do you think is the is the optimal point and and where
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where do you see such a system implemented uh either around the world or in the past or what what what do you
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think we should try yeah um I think I don't think we should allow I I think we we my preference would be
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for the regulatory perimeter to apply to the payment system so as a threshold my own
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view is we should not to the extent a new payment system emerges it should not be one operated by entities that are not
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subject to Prudential regulations that don't have access to to to um you know Central Bank lending and so
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I think I think I I this this I think is actually closely related to Peter's
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question where I I think that we should not think assume that an oligopoly is the wrong form of
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Market structure but that um uh either a public option which the US has in many respects today uh but one
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that that um or aggressive oversight to prevent Market power abuses is helpful and so I
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think um uh so I I don't know that I think the current system is is um completely horrible just as much as I
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think that it creates opportunities to impose taxes on smaller firms on underbanked and uh that can either be
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fixed by a meaningful public option that occurs in a larger percentage of the payment space
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or it can occur by more zealous supervision um and so those are the two and this
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gets to um you know I think Howell's question is is related to this because so Howell asked
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um does the framework apply outside the U.S to countries like Brazil or India uh
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where you've seen Innovation either with government support but sometimes with
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private Innovation and as I understand it um and and how you should correct me if I'm
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wrong in both Brazil and China we saw massive amounts of government support and it's in Kenya that we saw
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tremendous innovation in the absence of government support and I my sort of off-the-cuff reaction to that is that in
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Kenya there was a huge appetite for better services and so people did it in the fintech space but I don't know that
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that under that sort of uh reduces the the the need for government support I sort of take all of those I so I would
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respond to that by saying I think and this is this this relates to etai's question
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um I have concerns that there are possibilities for Market power abuses in the payment system
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especially in the cross-border system that there are certain areas where there's little government supervision
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Beyond prudent and at least in the market power context and so I'd like a positive sort of uh aggressive
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investment in public options and and supervision that when Financial Regulators are looking at payments they
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don't simply look at the safety side but they also look at the market power side
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which I think as far as I'm aware has not been the focus of uh most Financial Regulators
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involved in payments just to clarify uh the question that Josh was referring to is from Howard
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Jackson because the audience is not seeing the Q a and the question was uh can you say anything about how your
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framework applies to other countries like Brazil or India or China or Kenya or even the EU member states all of
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which have seen payment Innovation sometimes with government support but sometimes with private innovation
00:26:26
sorry about that I'll read the question from yeah and we can we can pose them to
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you Josh too so you don't have to worry about it you are uh you're our guest so
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we'll uh um we'll put them put these pictures to you and you can you can
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swing at them let me ask we have another great question from Anna galpern coming
00:26:41
up in a minute and encourage all the rest to pose any questions that you have uh let me ask another question first and
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then we'll get to Anna's question um Josh how does this framework that you've developed and I I think the the
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place where it's most powerful is in putting in direct conversation this question of concentration and stability
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a give and get uh from uh from infrastructure concentration and if we were to think about about
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payments infrastructure as as Public Utilities or even as utilities and think about it
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in that lens as many people have encouraged us to do then our thinking looks just a lot
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different than the public-private Divide looks looks very different they're private corporations have shareholders
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in some sense um but but really the the regulatory schematic is so so dominant so
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overwhelming and they don't you don't really think of it as free enterprise
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the the regulation is on on rates and on ways that uh conversations can even occur it's just a highly choreographed
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set of Institutions but we don't have that in payments we do have concentration in some aspects of some
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user bases but in other ways and crypto of course is a great example of it but it's not only the only example it's sort
00:28:01
of a wild and wonky world out there so so I I guess I have I have two questions we can build them out over the rest of
00:28:08
our of the half hour that uh that we have because let me start with this this first one given how much the payments
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World shifts right even in the last decades the ways that we Internet payment system uh at virtually every
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level has has changed significantly um what does your framework tell us about things like uh the efforts to have
00:28:32
more public payment options uh or or to um you know to force uh the you know private sector to give up its
00:28:42
intellectual property to be um developed by by the public sector the great example of that of course is is
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Brazil um uh and other efforts are underway um does it have anything to say about
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that have you does it do you do you say do you think yes uh given the uh the um the tensions that we see between
00:29:02
concentration and stability that we should see more public ownership and provision of payment rails less of it or
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is that an orthogonal discussion it's not an orthogonal discussion um foreign
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I don't think it's an easy question so my concern certain with full government
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control or if you're going all the way towards what you were talking about is
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um in some context central banks have been good about innovating in another context
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I might say domestically they have not been as good at that and so um to the extent that there are entities
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with some profit motive that have a threat of competition there are some benefits to Innovation but I at least
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think I think that more government control it it shouldn't be surprising that that China and Brazil
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acted the way that they did um I think given that that free the way that I think of payments in in this
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framework that um you have a trade-off between stability and Innovation and safety and
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it requires an enormous amount of administrative oversight to make sure that a privately run system doesn't
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abuse take advantage of that upon one metric which might be a situation in which public control is is helpful
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um but I'm cautious about that because I don't feel all that that confident I agree
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with all of the premises and and I want to um it's not a conclusion I feel I I am
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completely comfortable reaching at this point so not to dodge the question but I
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think sort of uh in many respects it makes sense I think uh but but that whether it's normatively good or bad
00:31:04
depends upon a lot of assumptions about State capacity uh both to supervise private systems and to to manage the
00:31:11
public system okay let's take the question then from Anna um honor galpern from Georgetown writes
00:31:23
one note on your trilemma conundrum investment and Innovation are means not goals investment in what for what
00:31:30
Innovation for innovation's sake ditto for competition it's not good in itself
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and she wonders whether you are over investing in the mechanics at the risk of missing the elephant in the room
00:31:40
which is the US dollar which amounts for much of the fed's position and I would
00:31:43
add of course that's uh 70 of the global economy is dollarized directly or indirectly indirectly the famous saying
00:31:52
from from John Connolly uh Richard Nixon's Secretary of Treasury when the gold window was slammed shut is the
00:31:59
dollar is our currency but he said Tower Partners your problem so if that's the
00:32:05
case if the US dollar is the American currency but a global problem then isn't
00:32:10
all of this about dollar dominance in in places where we don't have an international or Reserve or Regional
00:32:16
Reserve currency um is this does this trilemma just sort of melt away yeah this is a super
00:32:22
interesting question I think um again a lot of the the I think the the dilemmas are most evident in the
00:32:30
cross-border context and one of the things on this question is getting it I think is one of the biggest
00:32:35
um uh reasons that cross-border issue is not bigger than it currently is is because such a high percentage of
00:32:43
transactions can occur on fedwire because the dollar has such a strong position um and so I guess I think
00:32:53
I I don't I think it's probably certainly worth acknowledging that I I think of the the US Dollars position as
00:32:59
arguably um at least in the payments context reducing some of the issues because it
00:33:07
allows essentially interoperability by having everyone opt to use dollars um but I I still think
00:33:14
um and and Innovation uh you're I agree with how on a on a phrase the question I
00:33:21
do think and so maybe I need to rethink how I phrase this the many Payment Systems today especially across border
00:33:29
and U.S systems are not as fast or reliable as they maybe should be and so those are the types of Investments that
00:33:38
I I think um uh reflect this but you're right we it's not that you want Innovation it's that
00:33:45
when a system could be better either more reliable or faster you want Innovation to to get there in a safe and
00:33:51
reliable way um but I don't I think you're right to point out that Innovation for
00:33:55
innovation's sake is the wrong way to think about it so one interesting Dimension that comes
00:34:07
out of your paper you didn't talk about it that much in your presentation is the role of the Central Bank and uh
00:34:16
thing that everyone is discussing right now the Central Bank digital currency um and I I wonder if you can elaborate
00:34:24
on this a little more because there is certainly a good amount of skepticism out there that this is going to be uh
00:34:32
the the arrangement of the future yet I think that you you certainly see it as part of the equilibrium
00:34:39
yeah I um I I should have been prepared for this question because it's the obvious
00:34:50
question uh to ask because you know everyone can say oh a CBD CD Central Bank digital currency would be great and
00:34:58
yet um I I'm not convinced the the rollout has been it is going to be successful
00:35:08
whether it will occur at all I I it doesn't seem to um uh you know I know the FED just released
00:35:16
a report on the pros and cons of a U.S Central Bank digital currency I guess when I think of it I think of it as a as
00:35:22
I guess what I thought when I wrote that I thought of it as almost a metaphor for
00:35:28
we need more to the extent we want better Payment Systems we need more involvement from
00:35:35
the central bank I I don't think a CBD the Central Bank digital currency is necessarily I I
00:35:42
this I'm really going to dodge because I just don't think that Aina uh Central
00:35:47
Bank digital currency is there's evidence that in the US it's fixing our
00:35:51
payments problems and so I I think I need uh should be careful about what I say there it's it's uh
00:35:58
if if we could snap our fingers and have one tomorrow it would be maybe helpful on the margins but I don't even think it
00:36:04
would solve everything I I mentioned at the beginning all right well now we're
00:36:08
going to enter the stage of the webinar where we uh turn the fire up and we don't let you pull your feet away from
00:36:13
it so we'll see if we can uh we can get you to um to uh to be Concrete in in these in
00:36:20
this context so you and Dan already have written a couple of articles that are um focused on on a different part of
00:36:29
this of this kind of issue about payments infrastructure uh and and about the both the public and private aspects
00:36:38
of it the centralization questions and so I want to bring those those um uh contributions into dialogue here
00:36:45
so I'm thinking here about dtcc and so in the Securities and capital markets
00:36:50
infrastructure context and then also a newer piece on plaid so thinking about this as it refers to open Banking and I
00:36:58
think that there's a version of these ideas and we can um uh you know uh post
00:37:03
uh to I think there's a way for us to post attendees the links to those papers
00:37:07
which I'll try to do in just a second um but I want you to think through the
00:37:12
policy implications For What You observe about payments infrastructure and financial infrastructure everywhere
00:37:20
and that is uh in in thinking about uh what do we learn about the way we are uh doing less well than we could do but for
00:37:31
specific policy interventions with respect to financial infrastructure and I'm going to give you three examples I
00:37:38
want you to respond just just to tell if you had either uh the the Congress institutional in front of you or the
00:37:46
white house or the central bank or the SEC and you could say do this or stop doing that it's kind of in a rapid fire
00:37:53
way and here are the three the questions that I'd ask you to to comment on the
00:37:58
first is are we today in the question of uh of uh clearing on on stock uh trades
00:38:07
especially where we might be is the dtcc model which is bank owned or sorry broker owned is that model which evolves
00:38:16
it through you know and most of what I've learned about this I've learned
00:38:18
from you and Dan data through a very specific path dependence but it is where we are is is that where we could be are
00:38:26
there efficiency gains or Equity gains or fairness gains that we could get uh with a specific policy uh introduction
00:38:33
or is this just kind of the least bad set of parameters that we already have so the first weekend is on stock trades
00:38:41
and the capital markets is this dttc yep dtcc model uh Centric model the best the
00:38:47
second is in fintech Innovation the very fact that we're getting these upstarts
00:38:53
the Plaid is the example new site that Visa tried to buy and the Trump doj prevented them from doing so does that
00:39:00
represent uh something that policy makers thinking about your framework or not should encourage or discourage right
00:39:08
is there some policy uh intervention that we want to see and the third is is right here in in your current paper and
00:39:15
that is thinking about the status quo with respect to retail cards words so just thinking Visa Mastercard American
00:39:22
Express on the credit side are there changes that you would want to see made that would put us in a better Frontier
00:39:30
however you define that so Capital markets open banking cards the first two I won't Dodge at all
00:39:37
um uh the second third uh we'll see um dtcc you know I think Dan and I wrote
00:39:44
this paper and a lot of people so so the thesis of the paper is um there was an attempt by
00:39:53
really Congress but mandated the SEC to have interoperability requirements such that nscc and DTC
00:40:01
would be required to interoperate with regional competitors the Pacific Clearing Corporation the Securities
00:40:08
Clearing Corporation of Philadelphia and the idea in Congress was very explicit about this was to mandate was to
00:40:14
preserve competition and clearing and depository markets and what what we argue our thesis is that the
00:40:21
interoperability agreements were in many respects the means by which uh a single
00:40:27
depository in a single clearing Securities Clearinghouse obtains their monopolies and the reason for that is
00:40:32
the interfaces themselves involved fixed costs though by Statute nscc was required to Bear those costs so more
00:40:41
importantly um the interfaces allowed nscc to dictate the pace of innovation as our argument
00:40:49
in that um when nscc said we want to be faster the regional guys had to do the same and they couldn't afford to keep up
00:40:56
with those Investments and the second point is that it reduced and maybe eliminated altogether product
00:41:02
differentiation the nature of the market really meant that the Pacific Clearing Corporation just
00:41:09
had to say we'll have a variety of ways of communicating with nscc but we're
00:41:13
really just using an SCC system and so given that market system it doesn't really make sense to have competition
00:41:20
and so people some people not everyone hopefully rather than said oh we need to do all these reforms to nscc because
00:41:27
it's poorly designed and I don't think that's the right response I think it's
00:41:31
an interesting history and a maybe in some respects a cautionary tale about how interoperability can work in
00:41:41
certain highly unusual bespoke cardiosyncratic circumstances but I think I don't I you know this goes back
00:41:48
to Anna's question it's not clear to me what there were I think there were moments in
00:41:53
the early 2000s when there was a possibility that um because the New York Stock Exchange
00:41:58
and and the American Stock Exchange were primary owners of of nscc that there was a possibility of
00:42:07
um Arrangements that benefited them but since then we've reformed governance and
00:42:12
I don't know that nscc is all that bad so I I I don't think I would want it
00:42:19
it's not clear that we would want all that much to be different in in that context I'm open to the possibility it's
00:42:26
more the the story that I find interesting um this goes back you know I'm uh maybe
00:42:31
a better uh I don't know my political instincts would be all that good I like
00:42:35
to understand things but not not necessarily like talk to policy makers um in fintech Innovation I think
00:42:44
so the question could be should we have allowed visa to buy plaid that's a really hard question but but but you can
00:42:50
also think of it as just um we have significant Innovation right now in card services and and and and and and
00:43:00
largely because of sort of how of apis and this is you know this has implications
00:43:09
for open banking but what what um Dan and I are trying to think through is is what are the
00:43:17
trade-offs involved here and are what we we sort of posit is that um apis to connect banks are themselves
00:43:26
likely to be a natural monopoly and we see evidence of this with plaid though uh having such a large market share
00:43:33
though the possibility that um uh you there might be some pushback against that even so I I would think that if
00:43:43
something replay you know from Visa's perspective I can understand why plaid
00:43:47
seems like an existential threat we need one sort of plaid and and I don't think I can predict at this
00:43:58
point if Visa had planned to acquire plaid to kill it I think uh that would have been a problem I'm not sure that's
00:44:04
what was would have happened if Visa said this is the future of you know Card Services may be a thing of the past or
00:44:14
more you know possibly um we are going to be completely at the mercy of plaid and we'd rather build
00:44:21
that out uh I don't know that that seems like a situation in which there might
00:44:26
have been it might have been okay and I I think I don't know how Regulators should have handled that I think the
00:44:30
issue is that um plaid has real scale economies that that are understandably a threat to visa
00:44:38
and and and so from an Anti-Trust perspective I think um I don't think it's an an easy case
00:44:46
but I think the trade-off is clear which is that you want a company it may simply
00:44:51
be that there's one and then you're concerned both about plaid moving into
00:44:55
related markets other abuses of of a dominant position and that just returns us to the same situation uh we're in in
00:45:03
payments today um the third question was what was the third question is um the one that we're thinking about
00:45:13
right now oh I was thinking about the context for cards so um what what do we do in um so I'm
00:45:19
moving it through your three papers the two of the Dan and here yeah um and on this one I want you to apply
00:45:24
it to uh retail credit so uh do the card networks are we at an optimized Frontier
00:45:32
from a policy perspective do we need to break them up do we need to have a public option as it should be fee
00:45:39
regulation or fee caps I mean how how or or are we like with dtcc we're uh we're
00:45:45
at the the way we've evolved this place still permits for all the kinds of innovation
00:45:51
um without instability um at the at the periphery and that the incumbents are still uh well optimized
00:45:58
what's your take on that um I think cards are hard for a couple reasons one um
00:46:07
you know that various Merchants reluctance to take American Express because of higher fees
00:46:14
seems to suggest or uh that that um there are Network effects and scale economies
00:46:23
I think that there are you know it's a highly concentrated market and you have
00:46:27
concern about high fees there is much more competition for credit cards as PayPal and Pla and
00:46:37
venmo have have emerged such that um I think five years ago I think uh supervision of fees might have been
00:46:46
very important I think it's becoming less important as the the market develops
00:46:51
um I wouldn't break them up one one interesting Dimension that comes out of your paper is uh I would say
00:47:04
related to a firm like Facebook and the possibility that Facebook will develop its own currency
00:47:10
and as you mentioned on the one hand this is good for competition on the other hand uh when you think about
00:47:16
financial stability if you want to maintain stability it implies that the FED will have to expand
00:47:22
its regulatory perimeter and start dealing with firms that are not purely financial institutions that's another
00:47:30
thing I was looking for you to expand on a little more so so is the issue here just the fact that these are not
00:47:38
financial institutions or are you worried about expanding the regulatory perimeter more uh more broadly than that
00:47:45
I mean we're dealing with such questions all the time as you know Banks activities are moving into non-banks and
00:47:52
the FED is constantly debating how much uh of the previous regulations and uh uh
00:47:59
you know assistance should apply to these institutions uh and the question is how do you see it in this context
00:48:04
my concern is expanding the bank regulatory perimeter now if if um if you have genuine real-time payments
00:48:15
then it's less of a concern because you're not holding you're not either the
00:48:18
counterparty credit risk is lower but my my concern is that is is you know in some ways there are no new problems in
00:48:24
finances like this is all we learn from crypto is is that we keep discovering the the the financial issues that that
00:48:33
people who study Financial regulation have thought about for 50 years and with Facebook it seems you know like a
00:48:41
classic case of a firm that might try to offer cheaper and may offer you know in
00:48:48
some senses faster services or something like that but will then become a source
00:48:54
of of stability concerns and so in if it turns out that something goes wrong it seems inevitable that Facebook would get
00:49:03
support from uh you know in this world I guess is it meta now or something um uh uh and and so it's the there's
00:49:12
nothing new Under the Sun or or in this context I think and and the concern you know it's entirely possible and if you
00:49:19
think I am missing something please let me know but my concern is just the oldest one which is that we have some
00:49:24
entity that operates outside the the the the the Bank regulatory perimeter doing
00:49:32
engaging in services that uh compete that do the same things and are precisely the reasons we have a bank
00:49:39
regulatory perimeter and so if things do go wrong I worry about um uh and you know this this this leads
00:49:46
to sort of interesting like in modern thought scenarios such as um would the FED be subsidizing certain
00:49:56
types of social media companies because there would be an implicit uh uh subsidy
00:50:01
in the event that something went wrong which is just sort of fun to think about that I don't know if it's related to uh
00:50:07
Financial concerns beyond the the original one of extending um uh uh government support
00:50:15
Josh I want to pull in your expertise from another of your field domains and that's bankruptcy
00:50:22
how do we think about um payments inference infrastructure distress and resolution
00:50:30
so the way that the law thinks about it is that you know these are companies and
00:50:35
if they go bankrupt they'll be subject to the bankruptcy code there are exemptions for certain kinds of
00:50:39
financial contracts mostly not relevant here um unless you are uh deemed to be uh
00:50:47
significant uh Financial Market infrastructure uh systemically important so Sif moves systemically important
00:50:56
Financial Market utilities um in which case you'd go through a specialized process outlined in
00:51:02
Dodd-Frank regulated by the FED but um most of the kinds of payments infrastructure we're talking about is
00:51:09
not so designated and so should we think about resolution and distress for venmo
00:51:16
or PayPal for example differently than we would think about the you know the distress of uh of you know General Mills
00:51:25
or or Twitter uh or or Tesla um resolution of payments infrastructure in a different domain and more like we do
00:51:35
for example in thinking about energy infrastructure or or systemically important financial institutions or
00:51:42
things like that um this is why I think it's risky that people leave funds and PayPal and Dan's
00:51:54
written about the you know the issue the ordinary bankruptcy processes just follows absolute priority Rule and
00:52:00
unsecured creditors are paid after everyone except shareholders and so the the problem we're worried about if if a
00:52:09
non-sif you know uh designated entity becomes insolvent is that people who've
00:52:16
left who have left funds in PayPal uh will probably be wiped out um and if people don't leave if if if people
00:52:30
leave money in a retail payments provider such that it seems to look like a bank uh this could become highly
00:52:37
problematic now um what they're they're I I think there are two interesting Parts about how we resolve
00:52:49
Financial Market utilities that are relevant to this the first is that it's basically a license to at the margins
00:52:57
play around with absolute priority rule right you can pay some people who would be paid after others before other people
00:53:03
this might give rise to moral hazard issues but it's important for preserving
00:53:07
stability the other is that there's greater possibility of of of of of assistance from the government to make
00:53:17
people whole now they're we can quibble about the legality of that but I'll just
00:53:21
take a like legal realistic approach for a second and think we're likely to see
00:53:25
government support if if this happens and well I guess maybe with GM and Chrysler bankruptcy is no different but
00:53:31
like assuming that that that's not the case for a second uh um and so I I think you know the the
00:53:39
insolvency risk of a payment system outside of the regulatory perimeter highlights many of
00:53:47
the dangers that um you know if people don't know about it I think when if Twitter goes bankrupt
00:53:54
um people's livelihoods are not at stake now in some sense if you leave your
00:53:58
money in PayPal you are on notice in that PayPal's terms of service are very
00:54:02
very clear about the risks you run but I don't think anyone who uses PayPal thinks of it that way and so I think
00:54:09
it's paternalistic but I think um uh there is if if if to the extent that PayPal or or
00:54:18
venmo um is a significant store of people's assets I think we need to to figure out
00:54:27
how to deal with this um but the right approach is also complicated I mean one approach is just
00:54:33
to say people can't leave money and you know PayPal can't be a bank when people
00:54:36
leave money in it that's a problem and it's a problem for precisely this reason
00:54:40
I'm reluctant in the absence of of treating PayPal as a bank for the the in a sort
00:54:47
of micro potential sense that it would be subject to Prudential regulations and capital requirements and and and all of
00:54:54
the sort of whole gamut of things to just say um will support PayPal but I don't think
00:55:00
that um we should let out so I think we need to address this ex-ante at an earlier point
00:55:08
in time than when PayPal is insolvent because otherwise I don't you know it seems like it becomes a political
00:55:14
question of of um whether we should just in some respects bail out PayPal by paying you
00:55:21
know presumably if this goes wrong um the payment provider that is insolvent has taken risks with funds
00:55:28
stored in PayPal or venmo or whatever and those those those risks turned out poorly which is why the
00:55:36
The Entity can't pay and if that's happening it we should probably think of
00:55:40
them as banks in a sense that they're like taking deposits and doing stuff with those deposits whether it's lending
00:55:46
or investing um and so I think we should these are issues and and that that we we
00:55:52
we should probably think about uh before this happens because it seems you know whether a bankruptcy like this is a
00:56:00
source of large systemic risk it would almost certainly uh harm the livelihood of
00:56:06
people who who may uh be adversely affected in a way that seems preventable and so the ways to deal with that seem
00:56:15
to be you can't store funds here or you have to um be very very careful you know you
00:56:22
could treat it like a money market mutual fund or something such that you're careful about the types of
00:56:26
activities that that payment systems are engaged in um so I think we I guess I think we
00:56:36
probably know how to think about that but I I mean do you think there are separate insolvency issues that are
00:56:42
separate from the ones I just talked about no I don't I don't think so I think it
00:56:46
is a question of there's there's a political economy around insolvency when
00:56:51
you're talking about access to money that becomes extremely bank-like in their and their uh and their policy so
00:56:57
so venmo presents I think a very troubling uh example of this in a way that other payments infrastructure would
00:57:04
not but a Visa went down or a MasterCard went down um you know what that would mean in
00:57:11
terms of the ability of the economy to run um suggest a kind of political reaction
00:57:17
that sounds he made a joke about GM and Chrysler but that's exactly the issue
00:57:20
right is that but it's different rather than having a major constituency of employees and counterparties and uh and
00:57:29
and others who are demanding political action we would have a sense of if we cannot sustain this uh this thing that
00:57:37
has such a public face to it then the crisis is going to become panic in a self-fulfilling way and so there lies
00:57:45
the political intervention that's a form of implicit subsidy and and that makes
00:57:50
you think okay you should price it and impose it on um on the institution that is so um that
00:57:56
benefits in that way or you should say no such subsidy um we would handle this in different
00:58:03
ways and then that makes me think that there should be some sort in the same way that we require
00:58:08
um Banks to have contingent uh funding plans as part of their their examination cycle
00:58:14
um maybe we should have something like that but facing the government so if we're not if we're not going to say that
00:58:20
we're going to guarantee basic payments infrastructure in a panic and what are
00:58:24
we saying instead and I think that's the way I would think about it but I'm not
00:58:27
sure how much I would say I would want bankruptcy code exceptions to be written to have like a the equivalent of a title
00:58:34
to a Dodd-Frank process uh as a as an analog to bankruptcy or is a uh you know bankruptcy fails than this
00:58:43
um I don't know that's that's kind of the way I would think about it yeah and
00:58:46
I think you're getting it two issues that are somewhat distinct the first is
00:58:50
just um to what extent does this look like Banking and the other is um to what extent is this just extremely
00:58:58
important in some sense that we're going to force reorganization instead of liquidation I mean with GM and Chrysler
00:59:05
there was a real possibility of liquidation and that was the it wasn't that bankruptcy it was impossible it was
00:59:10
that you had to you know the the government felt political pressure to to help labor jump the line and I think
00:59:18
that analogy to courage is is apt um but the ordinary bankruptcy process you might and you might have a subsidy
00:59:27
but it doesn't mean ordinary bankruptcy as uh not pot you can declare bankruptcy
00:59:33
reorganize you still have payments there should be no disruption to activity you
00:59:36
just may need help with funding for some period of time um and I think that's different than
00:59:42
when people stand to lose money that they've left in a in a payment system okay
00:59:51
fascinating issues I think we came to the top of the hour we could probably continue to talk about
00:59:57
it for a long time but this is a time to end so thank you very much Josh it was a
01:00:03
pleasure to read the paper and talk to you about it and I hope that the audience Uh current and future will
01:00:09
benefit from it as well it was really uh fun to talk to you all and I uh thanks for having me
01:00:17
thanks Josh and thanks everyone